A very popular topic on real estate Q&A sites is the return potential of homes in different cities.  It usually goes like this:

“Should I buy a smaller house in a city with top schools or should I buy a bigger house in a city with average schools”, a home buyer asks.

Then several realtors would reflexively answer “Houses in Palo Alto, Cupertino, or _____________ (insert your favorite city with top performance schools) will always fare better due to better schools”.

It is almost like an infallible rule – cities with top schools (I am saying top, not

just good) will drop less in a down market and rise faster in a bull market.

As I have seen so many people stating it without providing any supporting data, it really begs the question – does school really pay off?

Here is my approach.  I take two cities, Palo Alto and Sunnyvale, and compare their quarterly median prices for single family residence for the past 3 years.  Palo Alto and Sunnyvale are chosen because they are similar in being both conveniently located along 101, in proximity to one another and both have vibrant downtowns, plenty of restaurants and shops for their residents.  They are different in that while pockets of Sunnyvale have decent schools, Palo Alto has more uniformly better schools than Sunnyvale.  Quarterly median prices, instead of monthly median prices, are used to normalize any slow month skewing the data set.

Median Price for Single Family Residence (Data from MLS)

First point to note is that Palo Alto dropped in price from Q1, 2008 at $1.6M to the trough in Q1, 2009 at $1.3M.  Second point is that from Q1, 2008 to Q1, 2011, Palo Alto drops JUST AS MUCH AS Sunnyvale in percentage terms, -13% vs -12%. (Gasp!!)  As Palo Alto is about twice as expensive as Sunnyvale, the absolute drop is twice as great in Palo Alto than in Sunnyvale, $218K vs $107K.  Palo Alto did drop less from peak to trough but it also recovered slower.  If someone were smart enough to buy in the trough in Q1,2009, he would have made 48% gain in Sunnyvale, compared to only 9% increase in Palo Alto.

I am not categorically recommending one city over another based on price performance as there are many other factors affecting choice of neighborhoods and most are really personal.  My point is that when next time someone claims that one city always performs well due to its school, you should say “Show me the data!”